Shanghai Free Trade Zone: International Finance is Hesitant

CBRC writes to foreign bankers and institutions asking why there is a lack of interest

Oct. 10 – The much-lauded Shanghai Free Trade Zone has gotten off to an inauspicious start, with only two foreign banks applying to set up branches in the zone. A further eight Chinese banks (all state-owned) have applied. The two foreign banks are understood to be Citigroup and the Development Bank of Singapore. The Shanghai branch of the China Banking Regulatory Commission (CBRC) had several meetings with many international financial institutions in the months leading up to the launch of the zone at the end of last month. Now it has written to them asking why no commitments have been made.

The reluctance is apparently due to Shanghai FTZ regulations that insist that such branches set up completely separate operations from their main China operations. This would mean the establishment of completely distinct operational systems of internal compliance, risk management, and HR from their other China operations, effectively creating a hermetic operational seal in the Shanghai FTZ with limited exposure to Mainland China operations. Bankers already operating in China view this as an unnecessary expense and question the real validity of what Shanghai will actually represent. They would also need a significant increase in their China budget to accommodate Shanghai – which negates any benefits there may be in being there.

Several other banks, including HSBC, Standard Chartered and United Overseas Bank have expressed ‘interest’ but are believed to be waiting for further clarifications. The FTZ also lacks any rules explaining how capital will flow into the zone and how banks in the zone will be able to set different interest rates from those in China.

“The Chinese have handled this poorly and misread international sentiment,” comments Chris Devonshire-Ellis, Founding Partner of Dezan Shira & Associates. “Shanghai has in the past been able to say to foreign investors ‘move here and we’ll sort it out’ but now with the global economic picture remaining uncertain, a lack of clarity about significant reforms that need to be made in China, and no clear picture of how the Shanghai zone would really work, bankers are saying that they’ll wait and see. That may change in November when the Third Communist Party plenum is held, which is when wide ranging policy shifts tend to be announced.”

“Maybe with a bit of foresight and the hiring of an international press agent to handle this work, they would have realized that the buildup and launch were going to be too soon,” adds Devonshire-Ellis. “The worry is that the Chinese still do not really understand international finance, how it works and what it needs to flourish. Meanwhile I suspect we’ll need to wait and see what reforms are coming down the pipeline in November. But for sure the launch has been a bit of a PR disaster, although longer term I’m sure that sufficient thought will be given to make it a success. But that hasn’t been the case thus far. International bankers are effectively saying ‘We’re happier staying in Hong Kong.’”

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